Income–well-being gradient in sickness and health

Working Papers 335 Petri Böckerman, Ohto Kanninen, Ilpo Suoniemi

We propose a method of studying the value of insurance. For this purpose, we analyze well-being of the same individuals, comparing sick and healthy years in German panel survey data on life satisfaction. To impose structure on the income–well-being gradient, we fit a flexible utility function to the data, focusing on the differences in marginal utility in the sick and the healthy state, by allowing for a “fixed cost of sickness”. We find that marginal utility of income is higher in the sick state. We use our estimates to gauge the value of sickness insurance for Baily-Chetty type optimal policy calculations. We also show that the income–well-being gradient has steepened over time in Germany and we use the fitted model to characterize this change.

Keywords: life satisfaction, state dependence, risk aversion, social insurance, optimal benefits, sickness absence

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